1. India: Economic Overview
FIN 680D/ FIN 360A MAR 680V/ MAR 356E/ INB 670C
P.V. Viswanath

2. Economic History:
Post-independence India had a mixed economy, i.e. including both private and public sectors. The reasons for a strong public sector were:
Greate inequality in income distribution – doubts as to the viability of free markets
Free trade would probably have led to exploitation by stronger foreign countries
Exports were seen as a drain of resources from the country.

3. Post-independence economy
Foreign Investment was seen as foreign domination.
The quickest path to economic development was seen to be rapid industrialization, which would probably not happen without government intervention
Capital goods and heavy industry were seen as particularly needed.
Planning was needed to ensure industrial growth and the concomitant agricultural and service growth, as well as employment growth

4. Objectives The broad objectives were:
Rapid growth in production with a view to achieving a higher level of national and per-capita income.
Full employment
Reduction of inequalities in income and wealth
Socialistic pattern of society with a democratic framework, based on equality and justice and absence of exploitation.

5. Policy Measures for Industrial Development
Trade and Regulatory Regimes designed to shield industrial producers from competition
High tariffs
Industrial licensing of production and investment
Monopoly and Restrictive Trade Practices (MRTP) Act
Foreign Exchange Regulation Act (FERA)
Export Restrictions

6. Industrial Policy
Directed allocation of subsidized credit through the commercial and developmental banking system
Administered interest rates and financial institutions required to lend for specific purposes at the administered rates.
Fixed, overvalued exchange rates; this ensured cheap imports for the government.

7. Industrial & Agricultural Policy
Price control for many products
Rigid labor laws that made it difficult to lay off workers.
Direct public investment in industrial activities.
Management of the agricultural sector to ensure reasonable supplies of food grains, edible oils, sugar and cotton to the domestic market.

8. Agricultural Policy
Procurement prices were fixed, which , in times of surplus, worked as a minimum support price.
At times of deficit, the government mandatorily procured a part of the grain at the procurement price and distributed it to poorer people through ration shops.
Fertilizer, irrigation, power and credit were subsidised for the agricultural sector.

9. Agricultural and Fiscal Policy
The need to mop up excess production led to trade restrictions.
Quantitative restrictions on exports and imports, through licensing
Canalization – the use of a single parastatal for imports and exports; the use of minimum export prices.
High income tax rates

10. Social Policies Higher education was emphasized (IITs and IIMs)
Growth-oriented strategy as a means of mitigating poverty and unemployment.
However, structural inequalities in land ownership, availability of water, access to credit etc. led to growth without income and employment growth for poorer people.

11. Social Policies Land reform (at least in some states)
Alleviation of poverty through special programs and policies, such as asset creation programs, employment generation programs, minimum needs programs.
Intervention programs to solve the problems of malnutrition and hunger.
Asset generation programs are focused not just on providing consumption, but on creating assets, such as roads

12. Did the policies work? Industry
Industry grew 6% p.a. between 1951 and 1989
There was little competition; hence there was little R&D.
The capital-input ratio went up considerably; total factor productivity dropped. Capacity utilization fell.
Deeply entrenched interest groups.
Same issue as in China; question of optimal use of resources.

13. Agricultural Progress
Between 1950 and 1980, food grain production increased by 2.8% p.a., due primarily to productivity gains and multiple cropping.
But, investment growth slowed.
R&D suffered, development of irrigation lagged behind plan targets.
There was a substantial rise in subsidies for food and fertilizer and for credit, water and electricity.
India became self-reliant, but at great cost.

14. Social Progress
From , the proportion of population below poverty dropped from 46.17% to 37.76% in urban areas and from 58.75% to 48.69% in rural areas.
Average life expectancy improved from 32.1 in to 58.7 in The death rate dropped from 27.4 to 12.5 during the same period.
Literacy was 52.2% in compared to 18.33% in
But compared to other developing countries, this was not good.

15. The crisis and the change
A massive rise in the government deficit spilled over to the current account deficit because it was financed by external debt.
External shocks, such as increased oil prices, decreased access to concessionary loans from abroad
Structural rigidities in the Indian economy made Indian products non-competitive, globally.

16. The solution A twofold solution: Effects:
Make the economic structure more competitive
Contain the government deficit
Effects:
Structural Change and
Fiscal stabilization.

17. Initial Reforms
Trade policy reforms have done away with most quantitative restrictions and reduced tariff levels
Industrial policy has removed barriers to entry and limits on growth in the size of firms
Regimes for foreign investment and foreign technology have been liberalized considerably
Domestic tax structure has been rationalized.
The financial sector is being deregulated.

18. Second-generation reforms
Privatization of public sector undertakings
Very slow, but steady. BHEL
Exit policy for labor
Reforms of the agricultural sector
Reforms of the state government

19. Real Net National Product

20. Growth in Industrial Production
Atul Kohli, “Politics of Economic Growth in India, ,” Economic and Political Weekly, April 2006, pp and

21. Changes post-1991 Disparity in growth across states
Move towards service sector
Lack of industrial growth
Income inequalities
High poverty in the rural sector – farmer suicides
Continued casteism, gender inequality, communal unrest

22. Microfinance
Lack of rural development was thought to be due to lack of production assets and credit.
The government introduced easy credit programs through Regional Rural Banks.
These banks improved access to credit of better-off farmers, but failed to reach the vast numbers of landless people, microentrepreneurs, agricultural labourers and illiterate women.
Cheap credit skewed development to richer farmers.

23. Microfinance Early Rural Credit programs failed because:
procedures of rural banks were unduly complicated and costly
the sole emphasis on production loans was ill-guided
the poor were able to save, but had no opportunity of depositing their savings
transaction costs were prohibitive
financial products were unsuitable

24. Microfinance in India
National Bank for Agriculture and Rural Development (NABARD) concluded from a study that:
Microfinance programs have to be savings-led, not credit-driven.
The poor have to have a say in their design.
The NABARD program with the help of the RBI based itself on the work of self-help groups (SHGs).

25. SHGs SHGs are successful because they are self-directed,
largely homogeneous in terms of caste and activity,
build a common fund from very small regular savings and interest income
lend to their members for periods of 1-3 months at an interest rate of 2-3% per month.

26. SHG Banking
The NABARD program piggy-backs on the work of established SHGs by providing them refinance.
This program works because India already has in place a network of rural banks.
By March 2005 SHG banking reached 1.6 million savings-based groups with 24 million members, covering over 120 million people from the lowest strata of the rural population.
The program is in the hands of local agencies, driven by local SHG ownership.

27. Microfinance
Why does it work?
Incentives
Group Monitoring

28. Economic Discrimination
Two theories of employee discrimination:
Statistical Discrimination – desired characteristics are more prevalent in the sought-after group. Hence employees belonging to this group are preferred.
A recent study concluded that SC/ST graduates of the 2006 IIM-Ahmedabad batch got jobs with lower pay offers.
The study found that after adjusting for weaker academic performance, there was no discrimination.

29. Economic Discrimination
Preference-Based Discrimination (Becker)
If employers prefer to associate with employees of a certain background, then that characteristic will be priced – employees of the favored group will be preferred even if there is no difference on efficiency grounds.
This may be changed by advertising, marketing and misconceived associations between group affiliation and economic performance.

30. Capital Account Convertibility
CAC based on the theory that capital will flow from high capital-endowment countries to low capital-endowment countries, from low-return-to-capital countries to high-return-to-capital countries.
But CAC often led to movement of capital from developing countries to developed countries.
One reason is information asymmetry problems in developing countries combined with contract enforcement difficulties.

31. Capital Account Convertibility
Preconditions:
Low governmental fiscal deficit as a proportion of revenues
Contract enforcement
Line of credit

32. Shareholder Dispersion: Why?
Helps stock market liquidity
Which, in turn, helps market efficiency and
Information aggregation
Prevents control of government by corporate sector, leading to subversion of political system.
From the firm’s point of view, IPOs directed to shareholders at large, rather than Financial Institutions will keep the cost of capital lower. This will ensure economic efficiency.

33. Shareholder Dispersion: Why not?
Agency costs
Leads to divergence between managerial goals and shareholder goals
Reduced investment in monitoring of managers
Inefficient investment
Need strong market for corporate control and well-regulated securities market to offset this.
Empirically, dispersed share-ownership is a characteristic of developed economies.

34. Shareholder Dispersion: The facts
As of end Mar 2007, promoters held 54.94% of total shares, individuals held 13.78% and institutional holdings accounted for 14.64%